When it comes to planning for the future, Americans aren’t always the best at it — including when it comes to retirement.
In fact, according to a recent FinanceBuzz retirement survey, 21% of Americans haven’t even started saving for retirement. On top of that, the number of Americans who say they needed to withdraw retirement savings doubled between 2020 and 2021.
Saving for retirement is a huge part of making sure you have what you need in the future. It’s important to get started and do it right if you plan to stop working someday. With all that in mind, here’s what you need to know about how to save for retirement.
How to save for retirement
If you’re approaching retirement age or just thinking about the future, then you know saving for retirement is important. Figuring out how to save for retirement can feel overwhelming, but in reality, there are steps you can take during every stage of your life that can make the task easier.
How to save in your 20s
You may be starting your professional life in your 20s, meaning that your savings may grow at a slower rate compared to later stages in life. That being said, there are several moves you can make to give your savings an edge:
- Start a budget to control your expenses. One way to start on the right foot with your finances is to establish healthy budgeting habits early on. There are many popular budgeting methods, such as the 50/30/20 method. In this method, 50% of your income goes to needs, 30% to wants, and 20% to savings. If you can’t save 20% of your income yet in your 20s, save what you can and work to raise your savings rate over time.
- Build an emergency fund. Your 20s are the perfect time to build useful financial tendencies, including starting an emergency fund. An emergency fund can help you avoid costly credit card bills or high-interest personal loans, focusing your income toward your savings and other financial needs.
- Start contributing to your retirement plan. The earlier you start contributing to your retirement plan, the better, especially if your employer offers a 401(k) plan with a contribution match program. Even if you can’t contribute much right now, adding money to your retirement plan can still put you on the right path.
How to save in your 30s
You may have a higher income in your 30s compared to the first decade of your earning years. This means you have more money to save toward retirement, especially if you continue to exercise good money habits.
Continue growing your retirement savings using these moves:
- Optimize your budget. Maintain a smart budget even as you begin earning more money. This is especially true for people who have already started or plan to start a family in their 30s, which usually comes with more financial responsibilities.
- Increase your savings rate. It’s common to have a slow savings rate when you’re young, but you can increase it as you begin increasing your income. For instance, you can begin increasing your savings rate by 1% each year, from 5% of your income in your early 20s to at least 15% in your 30s.
- Open your own investment accounts. The first step to investing is usually through your employer’s 401(k) plan, but your 30s can be the time to begin investing on your own. For instance, consider opening one of the best Roth IRAs or best brokerage accounts to diversify your investments and improve your tax strategy.
How to save in your 40s
When you reach your 40s, you may enter your peak earning years. That means it’s time to accelerate your savings. At the same time, you may want to begin thinking more about your finances after you retire.
Some essential moves to take in your 40s include:
- Get out of debt. People in the age group 41 to 56 have the most average credit card debt with more than $7,000 in balances, according to Capital One. It can be tough to save when debt and interest charges weigh you down, so work on reducing or eliminating your debt balances.
- Check your asset allocation. It’s a good idea to check your asset allocation at least once per year. For example, you may have a portfolio that is heavily weighted toward stocks when you were younger to take advantage of compounding growth. But you may want to shift your portfolio to a more conservative investment mix as you age.
- Start investment accounts for your children. If you have kids, you may want to start investment accounts for them in your 40s, if not sooner. For instance, you may decide to start a tax-advantaged 529 plan to save for their college education.
How to save in your 50s
For some people, this decade will be the last full decade of working full-time. If you don’t quite have all your ducks in a row yet, now is the time to set yourself up for a financially secure retirement.
- Max out your contributions. You may not have much time left until retirement, but it can still be a good idea to put as much as possible in retirement accounts. After all, these accounts have tax advantages, such as reducing your taxable income with 401(k) plans and traditional IRAs. Your retirement benefits from those tax advantages as they can change the amount of money available to you later in life.
- Use catch-up contributions. If you are 50 or older, you can make catch-up contributions to retirement accounts such as 401(k) plans and IRAs. 401(k) plans permit up to $7,500 in catch-up contributions in 2023, whereas IRAs allow up to $1,000 in catch-up contributions. This can bring you closer to your retirement goals.
- Keep your money invested. It can be tempting to take money out of your retirement account to cover various expenses at this stage, but this can impact your investment strategy and available funds in your retirement. Additionally, non-Roth accounts often come with an early withdrawal penalty before age 59 1/2. That’s why it’s best to keep earning and using your income until you can start withdrawing penalty-free.
How much to save for retirement
To determine how much to save for retirement, you should start by adding up your monthly expenses. Write down your recurring expenses or record them in a spreadsheet. Add up all your common expenses, such as food, utilities, and health care expenses.
Tip: If you primarily use a credit or debit card for your monthly expenses, you can download a monthly spreadsheet listing every transaction you make.
Multiply your monthly expenses by 12 to get a rough idea about your annual expenses. This may give you an estimate of how much money you may spend every year in retirement. Keep in mind that this estimate doesn’t take into account factors such as inflation or potential variation in your spending later in life.
In reality, you may be able to avoid some expenses in retirement, whereas others may remain or even increase. For instance, you may have lower transportation costs, but your healthcare costs can increase. Many experts say you likely need 70% to 90% of your current gross income in retirement, which suggests your total expenses may drop slightly.
Alternatively, you can use your salary as a quick way to see if you are on track with your retirement savings. Aim to have the following multiples of your salary saved by each age:
- When you’re 30: Half of your current salary
- When you’re 40: One-and-a-half to two-and-a-half times your current salary
- When you’re 50: Three to three-and-a-half times your current salary
- When you’re 60: Six to 11 times your current salary
Keep in mind: These numbers are only general guidelines. Use them as goals to target or benchmarks to measure your progress.
Where to save for retirement
Your first step to meeting your retirement savings goals is figuring out where to put your money. This means both knowing where to save and how to invest money. The right retirement savings accounts can help you reach your financial goals in a timely manner and make the most of every dollar. Here are the three main options you can put your money into when saving for retirement.
1. Emergency fund and rainy day fund
Saving for retirement isn’t just about pensions and retirement funds, it’s also about having cash available for when things go awry. Your emergency fund and rainy day fund can help you avoid dipping into your tax-advantaged accounts when unexpected costs crop up. One of the biggest detriments to long-term retirement savings is pulling money out of your retirement accounts early.
For example, without an emergency fund, you may decide to withdraw money early from your retirement account. This may result in a penalty from the IRS — on top of a potentially bigger tax bill. Not only that, but the money is no longer earning compounding returns in your investment account. That opportunity cost can lead to financial problems down the road in your retirement and may generally impact your investment returns.
Make sure you’re saving money for unexpected costs in savings accounts or taxable investment accounts that are accessible. A high-yield savings account can be good for these sorts of emergency funds. This way, you can cover expenses without drawing on your retirement accounts.
2. 401(k) plans
A 401(k) is a tax-advantaged retirement account typically offered by your employer. While you can only get a standard 401(k) employer's plan, there is a solo 401(k) designed for self-employed business owners. So, if you own a business and you’re the only employee, you could potentially be eligible for a solo 401(k).
With a 401(k), you generally have money withheld from your paycheck and contributed to your retirement account. Many 401(k) plans offer a range of mutual fund investments you can choose from. You typically won’t make a lot of trades, although you can rebalance your retirement portfolio if needed.
Roth vs. traditional 401(k)
There are different tax treatments when it comes to contributions. With a traditional 401(k), you make contributions with pre-tax money. Your employer takes the money out of your paycheck before income taxes are figured. As a result, you get a tax break today. However, later, when you withdraw money from your account, the amount you take out will be subject to taxation as ordinary income.
On the other hand, there’s also the possibility of having a Roth 401(k), depending on your employer. If your employer offers this option, you can make 401(k) contributions with after-tax money. So, you’re taxed on the contributions today, but your investments grow tax-free. During retirement, when you take your distributions, you won’t have to pay taxes.
When thinking about whether to make Roth 401(k) vs. traditional 401(k) contributions, consider if your taxes might be higher now or later. If you think your tax bill is likely to be higher during retirement, it can make sense to make Roth contributions. However, it’s possible to make a combination, taking advantage of both traditional and Roth contributions.
401(k) contribution limits
Each year, the IRS reviews inflation and other factors to determine contribution limits to tax-advantaged accounts. For tax year 2022, the 401(k) contribution limits are $20,500, plus another $6,500 in catch-up contributions if you’re at least 50 years old. These limits are increasing to $22,500 and $7,500 in 2023.
Don’t forget about the 401(k) match
If your employer offers a matching contribution, it can make sense to take advantage of it. Basically, your employer provides you with free money that grows over time with compounding returns. This can be a powerful way to boost your retirement savings.
For example, if your employer matches 50% of your contribution up to 6% of your income, you could see a nice boost, even if all you do is take full advantage of your match. Say you receive $2,500 with each paycheck. Six percent of your income amounts to $150. That’s how much you put in. Your employer will then also put in $75, or 50% of what you contribute. If you’re paid twice each month, you’re putting in $300 a month toward retirement and getting an extra $150 a month from your employer. That amounts to an extra $1,800 a year from your company. That’s not too shabby and can make a big difference down the road if that money is invested.
Realize, though, that your employer’s matching contributions are always put into a traditional 401(k). So, even if you’re making Roth contributions, the amount your employer contributes will actually go into a traditional account. This can be one way to take advantage of both types of contributions. If you’re unsure what this means for your personal finances, speak with a tax professional to see what the potential implications might be.
3. IRA plans
As you consider how to save for retirement, including individual retirement accounts (IRAs) can be an important part of moving forward, especially if you work part-time or otherwise don't have access to a workplace retirement plan. With an IRA, you choose where you want to hold your money. So, you could choose a financial institution you’re already comfortable with or a totally different broker that offers the types of investments you want.
In general, an IRA is more flexible. You can hold individual stocks and bonds in an IRA, as well as mutual funds and ETFs. Additionally, depending on your custodian, you might even be able to hold some businesses, real estate, and certain precious metals in an IRA.
Roth vs. traditional IRA
You can make Roth IRA contributions when saving for retirement, but it’s important to understand the eligibility limits that come with Roth IRAs. The main issue is that you have to meet income criteria. Once you reach a certain annual income threshold, you can’t make contributions to a Roth IRA.
However, you may still be able to make tax-deductible contributions to a traditional IRA as long as certain conditions are met. Your ability to take advantage of the tax benefits of a traditional IRA will also depend on your income as well as whether you (or your spouse) have access to a 401(k) plan at work.
IRA annual contribution limits
IRA contributions limits, like 401(k) limits, are set by the IRS each year. However, contribution limits for IRAs are much lower. For tax year 2022, the contribution limit is $6,000, with an additional $1,000 catch-up contribution for those who are 50 years and older. However, there are different contribution limits if you have a SEP IRA (up to $61,000) or a SIMPLE IRA ($14,000).
Other types of IRAs
If you don’t feel that a “regular” IRA will get you to your retirement goals, here are some other types of IRAs:
- SEP IRA: Traditional IRA (no Roth option) that allows small business owners and the self-employed to save for retirement with higher limits.
- SIMPLE IRA: A tax-deferred savings plan you can institute as a business owner. It allows you and your employees to save for retirement.
- Spousal IRA: If you have a spouse who doesn’t work, they can open an IRA in their name, and you can make contributions to their account.
The importance of tax planning in saving for retirement
When saving for retirement, tax planning is essential. While there’s no way to know exactly what will happen, giving some thought to your tax situation today and your likely tax situation in the future can help you make better decisions with your retirement dollars.
Traditional vs. Roth accounts
Your first consideration is whether to make traditional or Roth contributions to your retirement savings accounts. The main difference comes with how your money grows:
- Roth contributions are made with after-tax dollars. As a result, your investments grow tax-free. Later, when you take money out of your account, you don’t pay taxes on your withdrawals.
- Traditional contributions are made with pre-tax money. You get a tax break today, and your money grows tax-deferred. However, when you take distributions from your account later, you’ll have to pay taxes on the money at your regular tax rate.
In general, the advantage of Roth contributions is that you don’t have to worry about paying taxes down the road. You can withdraw as much money as you want without concerns about the tax bill. The downside is you won’t get a tax break today. So, if you want a lower tax bill today, a Roth account won’t help you.
On the other hand, with a traditional account, you see a lower tax bill today and more money in your pocket right now. The downside is if your tax rate is higher in the future, you will have to pay more on the money you withdraw during retirement than you would today.
For some savers, it makes sense to make Roth contributions while they have a lower income, say at their very first or second job. You’re likely to have a lower tax bill when you’re a long way out from retirement and early on in your career, so paying taxes on your contributions is not a huge deal. Later, as your income increases and you end up in a higher tax bracket, it might make sense to switch to traditional contributions.
In truth, you don’t have to choose one or the other. It’s possible to use both types of accounts to improve your overall tax efficiency in retirement. You may consider speaking with a tax professional or retirement specialist about the tax implications of Roth and traditional accounts, as well as how to plan out your withdrawals from your accounts and how to coordinate them with your expected Social Security benefits.
Understanding the rollover strategy
Just because you chose one account doesn’t mean you’re stuck with it. You can actually roll your money strategically from one account to another based on a retirement plan you’ve worked out or just because you’ve changed your plan.
In general, the simplest rollover strategy is just to make sure your tax treatment matches. So, you might roll a traditional 401(k) into a traditional IRA, or a Roth 401(k) into a Roth IRA. If the tax treatment on your accounts is different, and you’ve already received a tax advantage from your traditional contributions, you might have to pay taxes on some of the money you move. Make sure you consult a tax professional before moving money from a traditional to a Roth account.
The role of taxable accounts
If you’ve maxed out your 401(k) and IRA or simply want to diversify your savings, you might consider investing in a brokerage account. In this case, you use a taxable account to continue growing your wealth. On the plus side, you have more access to your money, since you don’t have to worry about the 10% penalty for early withdrawals like you do with most retirement accounts.
You can open a taxable account with a traditional or online brokerage, or use a robo advisor or investment app to get started. For example, I have taxable accounts with Acorns and M1 Finance to help me meet other goals, as well as to ensure I have access to penalty-free money prior to age 59 1/2. I’ve also used Betterment in the past to meet various personal finance goals with a taxable investment account.
Realize, though, that you’re subject to capital gains tax on your earnings with these accounts. There’s a lower rate for long-term capital gains on investments you’ve held for more than a year. Short-term gains, though, are taxed at your marginal rate.
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How to cut your budget and save more money
Part of being able to put money aside now and also live on a fixed income in the future means being able to live on a budget. There are a lot of easy ways to save money — here are a few ideas.
Trim your bills
One of the best ways to reduce your costs is to review your bills and look for ways to save. For example, you might be able to save money on utilities by switching your provider. Additionally, there are services like Rocket Money that help you reduce your cable, phone, and internet expenses. Look for ways to reduce your monthly costs, and put the savings in your retirement account.
Use cashback apps
Rather than always cutting costs, you can also get a little extra cash back on purchases you’d make anyway. There are several cashback apps that can provide you with a way to get money on planned purchases. Capital One Shopping, Fetch, and Ibotta are just a few of the cashback apps that can help you boost your retirement savings.
Pay off your debt
Another way to cut your budget is to reduce your debt. The interest you pay on debt reduces the amount of money you have that could be going toward retirement. Make a plan to have all your credit card debt and other debts paid off by the time you retire.
Some strategies you can use to pay down your debt include:
- Debt consolidation: Consolidate your debts in one place with a loan that pays off your smaller debts. If you can get a lower interest rate, you may save on payments and interest and get out of debt faster.
- Balance transfer credit cards: If you can find a 0% APR balance transfer credit card, you can really tackle your debt. When you aren’t paying interest, you end up able to reduce your debt faster and save money in the long run. Our list of the best balance transfer cards is a good place to start your search.
- Debt snowball or debt avalanche: These strategies help you order your debts in a way that allows you to tackle them with a manageable strategy. With the debt snowball method, you focus on your lowest balance first, putting extra payments toward one loan while maintaining the minimum on other accounts. The debt avalanche method uses the same concept, but you start with the highest-interest debt.
No matter how you go about it, the important thing is that you reduce your debt and get in a position to put that money toward retirement.
What percentage of your income should you save for retirement?
As a general rule of thumb, you should aim to save 15% of your income over the course of your career in order to make sure you have the money you need for retirement. However, you may wish to set individual retirement goals based on the age you start saving, your investment risk tolerance, and your retirement timeline. Online retirement calculators can help you set a target amount for retirement savings, and then break that down into small goals so you can determine what to invest each month.
Why is it a good idea to start saving for retirement early?
Starting early to save for retirement is important to ensure you have sufficient retirement income and can pay for all your needs including health care, which tends to be very expensive for retirees. When you start saving early, you have more time for your money to work for you. Your investments can earn money, which can be reinvested and also earn returns for you. This is called compound interest and it makes it easier to save enough for a secure retirement.
Is it worth it to work with a certified financial planner for retirement?
Working with a certified financial planner, or CFP, can sometimes make sense if you are interested in learning how to invest money, or are unsure about asset allocation or your risk tolerance.
However, if you are willing to do the research into these topics on your own, you may not need the help of a professional. Many people are able to build a successful retirement investment portfolio by making simple choices, such as investing in ETFs, even without professional financial advice.
What is a target-date fund?
A target-date fund is a fund that gives you exposure to the stock market while ensuring you have the appropriate asset allocation.
With a target-date fund, you specify the year you plan to retire. The fund typically invests in a mix of appropriate assets based on your timeline. As you grow older and get closer to retirement, your investments will likely be shifted to more conservative ones without your having to do anything.
Target date funds could potentially be a good solution if you aren't sure how to determine your risk tolerance and you don't want to learn about asset allocation. But you give up more control over your investments and may pay higher fees than if you managed a portfolio of ETFs on your own.
Social Security benefits are not likely to be enough for you to live your target retirement lifestyle. Instead, you need to learn how to save for retirement using other methods. Talk to a tax professional and/or a financial advisor for financial planning and investment advice. Professionals can help you formulate your retirement savings plan. Stick to it to build a comfortable nest egg over time.